Insuring your life

October 11, 2017

How much life insurance do you need?

By Deanne Gage

When buying life insurance, it’s important to take into consideration your annual income, debt and net worth.

Life insurance is something you don’t buy for yourself — you buy it for the benefit of others. When should you think about buying it? Certainly, when you get married, have children or have someone who is dependent on your income. Then the question is: How much do you need?

Take a common-law couple in their early 30s we’ll call Carly and Jack. They have been in a relationship for 3 years and recently purchased a $450,000 2-bedroom condo in a Toronto suburb. But what if Jack suddenly died? It currently takes both Jack and Carly’s incomes to afford their $2,300 monthly mortgage payments and condo fees. Carly could sell the condo and downsize but she’d like to avoid that hassle. So, the couple decided to get life insurance to protect their new home. That way, Carly or Jack would have the money to pay off their mortgage if something happened to one of them.

Many people believe the coverage provided by their employer is sufficient. But let’s do the math. Your employer’s group insurer would likely pay your beneficiary 3 times your annual salary, at most. If you earn $70,000 a year, that’s $210,000. Let’s say you have a husband and 2 young children counting on that income for mortgage payments, daycare costs, education savings and day-to-day living expenses. It won’t take long for that lump sum to disappear.

So how much do you need? An insurance advisor will help you to fill out a needs analysis questionnaire to determine the appropriate amount, taking into consideration your annual income, net worth, debts and existing life insurance.

A general rule of thumb is you should be covered for at least 10 times your annual income, so if you earn $70,000, you’d be looking at $700,000 in coverage. But every individual situation is different and should be examined as such.

An analysis would determine what you need the money for, how much you need each month and how long you need it to last. Let’s take Jackie, a 33-year-old married mother of 2. She has 3 goals for her insurance coverage:

Pay off her $300,000 mortgage.

Top up her 2 children’s registered education savings accounts.

Replace her $60,000 income.

In simple terms, Jackie is looking at a $1-million policy. If she died, the money from her insurance could be spent this way:

$300,000 toward the mortgage

$100,000 toward the kids’ RESPs ($50,000 is the maximum amount you can contribute to an individual RESP).

$600,000 (her annual earnings times 10) to invest to cover day-to-day expenses that her husband Bob and children will incur over the years.

How term insurance works

Term life insurance provides temporary protection for temporary needs. Specific terms usually range from 1 to 30 years, so it can be an excellent, affordable option for parents with young children. For instance, a $1-million 30-year term policy on a non-smoking woman in her early 30s like Jackie could cost about $77 per month. For a man of the same age, it’s closer to $107. Experts recommend 30-year term policies for younger couples who are buying their first homes, are recently married and have significant debt. For couples in their 40s who have little debt and have almost paid off their mortgages, 10-year term policies might be sufficient. Couples can consider joint-term, first-to-die policies, which insure 2 people and pay out on the death of the first insured person.

Jackie and her husband Bob decided they needed a $1-million, joint first-to-die, 20-year term life policy, with a monthly premium cost of $103. They thought about going with a $500,000 life policy instead, but reconsidered at the last minute. With a significant mortgage to pay off, they wanted the security of knowing that in a worst-case scenario, they’d have that extra money for other needs.

In addition to providing affordable protection, term insurance also gives you some future flexibility. Most term insurance plans let you convert your term coverage to permanent insurance without having to answer any health-related questions. As long as your premiums are paid, your life insurance protection will stay in place for the rest of your life.